Houston's large supply of land means that demand growth primarily results in more construction, not higher prices" (McCullagh & Gilmer, 2008).

However, it is important to realize that land supply is only one part of the reason that new home construction formed such a large part of the Houston housing market. Yes, Houston has more available surrounding land than almost any other major metropolitan area in the United States, but it also applies different rules to its surrounding areas, making development more of a possibility than in other areas:

In Houston, developers can create a munici-pal utility district, or MUD, to provide these [water, sewage, and drainage] services on their properties and can finance these with tax-free bonds. Houston requires developers to build MUDs in such a way that they eventually could be connected to the city's corresponding infra-structure, but they begin as self-sufficient enterprises.

In other cities, develop-ments must be connected to the city's water and sewer lines, confining new projects to nearby or adjacent land since the cost of building lengthy lines is prohibitive. In metro Houston, by contrast, virtually any large parcel of land can become a new suburb, espe-cially given the metro's expan-sive highway system. Experience bears out this conceptual frame-work, with significant Houston suburbs like Katy and Spring developing and prospering before many closer-in areas.

But Houston does not just have a larger supply of available land on its outskirts. Unlike all other large U.S. cities, Houston lacks zoning laws restricting industrial, commercial and resi-dential construction to specific neighborhoods. Many inner-city Houston neighborhoods protect property values through deed restrictions diligently enforced by private neighborhood asso-ciations, and the large, planned suburban communities oper-ate similarly. But much of the land in metro Houston is not assigned a specific use (McCullagh & Gilmer, 2008).

All of these factors meant that Houston could have a housing boom that had nothing to do with falsely inflated home values and everything to do with a boom in available new construction. As long as Houston does not lose the jobs that brought new people to the area in the first place, the impact of the housing bust should be minimal.

Moreover, it is interesting to note that there is a linear relationship between income and housing prices in Houston, which is not necessarily in existence in other areas of the country. The slope of the line might change, but the correlation between housing prices and income always remains strong. "House prices can rise either due to a movement along the income-house price line or due to a shift in the line. Rises that are attributable to the latter are of potentially greater concern to policy makers" (Gan & Hill, 2008). What this means is that, not only did Houston manage to basically escape the boom and bust that impacted most major metropolitan areas over the last decade, but that its pricing structure will probably ensure that it will escape future housing booms and busts.

Why Home Prices Matter

Some people might suggest that home pricing is not that important because fluctuating house prices impact investors in a more significant manner than they impact the average homeowner. This statement is both true and misleading. Taken as a whole, the fluctuating real estate market may have a greater impact on the net worth of investors. However, these investors are also more likely to have sufficient financial resources to weather financial ups and downs. While individual home owners might not face the same degree of financial risk, they do risk their personal financial futures. Furthermore, individual homeowners may buy houses in order to live in them with no plans of selling those houses, but the changing circumstances that prompt home sales, which can include job changes, deaths, births, divorces, and marriages, are the same kinds of life changes that require selling a home. Fluctuating house prices can make it impossible for the average homeowner to prepare for these types of life changes. Therefore, whether for investors or homeowners, the consequences of a fluctuating housing market can have a major financial impact. As a result, it is clear that, "understanding the future path of house prices in relation to economic stresses such as oil price shocks, financial market distress, household income, and others is critical to successful strategic planning and risk management" (Deng, Moon, & Wu, 2010). Moreover, it is critical for all types of homeowners. For example, understanding housing prices can help the average homeowner determine whether home ownership or rental is a more appropriate short-term choice.

The Role of Mortgages

Obviously, people who hold mortgages on property face greater financial risks than people who do not hold mortgages, because they may find themselves upside down in a loan, and unable to sell a property and cover the outstanding loan amount. Oftentimes these people are the ones who default on their mortgages, because of an inability to sell their homes. People who own the property outright may not be able to recover the payment price for the house, but they will at least have the ability to sell a house at a loss without damaging their credit. However, it is interesting to know that not all mortgages have the same degree of default risk. Complex mortgages are riskier than simple mortgages, and complex mortgages proliferated in the late 1990s and early 2000s:

The focus on initial loan affordability might motivate households to borrow too extensively and to underestimate refinancing risk, which is exacerbated by historically short reset periods and recasting of negative amortization loans. After controlling for observable characteristics including the FICO score and income, we find that households with complex mortgages are more likely to default. This holds true after the set of controls is expanded to include time-varying LTV, which suggests that higher complex mortgages defaults are not due exclusively to higher ex-post leverage (Amromin et al., 2010).

Furthermore, it is important to understand what role mortgages play in America's inner economic structure. Americans are known to be borrowers rather than savers, purchasing things on credit rather than saving money for desired purchases. While America is a debtor society, it is important to realize that mortgages make up the bulk of that debt. While many Americans may have carried unsecured consumer credit, borrowing was mainly to finance home purchases. Furthermore, as the credit market expanded, home ownership was a possibility for groups that had traditionally been excluded from the home ownership marketplace. "For example, mortgage debt dwarfed consumer debt by fourfold in the first quarter of 2005 according to the American Bankers Association (ABA). Part of this growth can be attributed to the proliferation of nontraditional mortgage products such as interest-only loans and loans with little or no documentation of down payment sources or income. In addition, the growth of the subprime mortgage market has helped introduce credit constrained households to the mortgage debt market" (Pennington-Cross & Ho, 2006). This fact has a major implication for homeowners, especially non-investor home owners. While they may carry a high debt burden, if most of that debt burden is linked to mortgages, it is a burden that becomes more difficult to escape. Unsecured consumer debt can be stressful for a borrower, but is ultimately escapable through bankruptcy. While a bankruptcy will impact a borrower's credit score, it essentially allows a debtor to be free from a debt for pennies on the dollar. In contrast, mortgages, because they are secured by real property, are not escapable in the same way. Not only will a mortgage default impact a consumer's credit, but it will also impact the consumer's financial bottom-line.

Home prices matter in Houston because they are a large part of the city's draw for new residents. People can home two or three times the home in Houston that they can in other metropolitan areas, such as Boston. This is significant because Houston's salaries are not two to three times less than salaries in Boston. While other factors, such as the cost of groceries and fuel, impact the cost of living, the relative affordability of housing means that Houstonians, in general, experience a greater standard of living than residents of many other parts of the country, despite having lower incomes. The availability of affordable land also makes Houston a draw for new industry, and commercial land values are linked to residential land values. Therefore, home prices in Houston remain critical to the health of Houston's overall economy.

Impact of Frequent Resales

One of the problems with tracking home retail value is that it is difficult, if not impossible, to determine how a house has fared in between sales. A house could have received substantial improvements between sales. This might be the case in a neighborhood that is undergoing gentrification, where individual owners and investors alike might purchase a dilapidated property and make improvements to it, with the hope of netting a handsome profit upon resale. The term for this process is flipping, and the availability of cheap housing, cheap mortgages, and rising property values…[continue]

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